How QNECs and QMACs can help correct a failed 401(k) nondiscrimination test

LAST REVIEWED Feb 17 2022 5 MIN READ

By Wendy Baker, J.D.

Key Takeaways

  • It’s common for a 401(k) plan to inadvertently fail either the ADP or ACP test

  • A failed ADP/ACP test can be brought into compliance by making a QNECs and/or QMACs

  • Ultimately, a safe harbor 401(k) plan design can help companies automatically pass certain nondiscrimination tests

Part of keeping a 401(k) plan in compliance means passing annual nondiscrimination testing (NDT) based on your plan’s features. Because NDT can be confusing for employers, it’s common for a plan to fail NDT unknowingly.

One of the most ordinary scenarios is failing the Actual Deferral Percentage (ADP) test or the Actual Contribution Percentage (ACP) test. These tests were designed to ensure that retirement plans aren’t disproportionately favoring highly compensated employees (HCEs). 

  • When a plan fails the ADP test, HCEs have deferred savings at a higher rate than non-highly compensated employees (NHCEs). 

  • When a plan fails the ACP test, HCEs have received disproportionally more employer matching contributions and/or employee after-tax contributions than NHCEs.

While failing these tests is dependent on employees’ participation and deferral elections, it’s ultimately the employer’s responsibility to bring the plan into compliance. As the IRS outlines, this can be done by: 

We’ll discuss the role that QNECs and QMACs play in addressing NDT failures—and other situations in which they can be used. We understand that making additional, unforeseen contributions to your employees’ 401(k)s can be costly, so we’ll also discuss how having a safe harbor plan feature may help you eliminate the need for corrective contributions altogether.

What is a QNEC and a QMAC?

QNECs and QMACs are employer contributions made to one or more employees’ accounts to correct for failing either an ADP or ACP test (or to correct other plan operational errors). Although both QNECs and QMACs must be 100% vested immediately, participants generally can’t withdraw funds until they’ve met a distribution requirement (e.g., reaching age 59 ½ or experiencing a qualifying event).

The main differences between a QNEC and a QMAC is how they’re calculated: 

  • QNECs are calculated as a percentage of the employee’s pay, 

  • QMACs are determined as a percentage of the employee’s deferrals and can have a cap on the maximum amount that is based upon total compensation. 

Another difference is which NDT each type is used to correct. QNECs can address both the ADP and the ACP tests because they are considered qualified non-elective 401(k) contributions (which is another way to say they aren’t based on participant deferrals). QMACs can only be used to contribute additional match contributions for the ACP test.

Employers generally have one year after the end of the plan year being tested to make QNECs or QMACs to correct a failed NDT. Due to strict timing rules, QNECs and QMAcs cannot be used to correct a failed test if the plan uses the prior-year testing method 

How a safe harbor 401(k) protects against nondiscrimination test failures 

A safe harbor 401(k) plan design can provide many benefits, including potential exclusion from annual retirement plan ADP and ACP NDT testing. A proprerly designed safe harbor plan automatically passes ADP and ACP non-discrimination testing. While it may increase employer contribution costs, a safe harbor 401(k) can lower administrative costs and help prevent unforeseen expenses associated with QNECs and QMACs and also eliminate refunds to HCE’s. 

There are several types of safe harbor plans—and these plans come with strict deadlines. That’s why we recommend communicating with your service provider to determine if there are any limitations or legal deadlines that may restrict your ability to implement the safe harbor plan design of your choice. 

Explore your 401(k) plan design options 

Let’s face it—nondiscrimination testing brings unwanted uncertainty. Pick the wrong method and you have either an unreliable deferral benchmark or an accelerated timeline for making potential financial reparations. Fail, and you may have to turn the financial burden back on your employees or assume it yourself. Human Interest can help you evaluate your options. 

Our safe harbor plan calculator can help illustrate how much a safe harbor 401(k) could cost. Or, you can request more information about Human Interest today.

Wendy Baker is Senior Legal Counsel at Human Interest, bringing over 25 years of experience exclusively in the ERISA space, spanning defined contribution plan recordkeeping and administration. She has a J.D. from Case Western Reserve University, is a member of the North Carolina and Ohio Bars, the American Bar Association, and industry groups.